Your home may be the single biggest investment you make in your lifetime. Many people start the process by asking the question “How much do I qualify for?” This is not the right question to ask. You need to be asking yourself “How much can I afford?”
You should not let a real estate agent or lender determine your price range. Only you can determine a monthly payment that is compatible with your budget and lifestyle. If you have significant out-of-pocket prescription drug costs, enjoy dining out regularly, or pay for a child to attend private school, you may prefer to buy a less expensive home.
Don’t even think about buying a home until you have made a budget that tracks your monthly income and expenses. Live on this budget for several months to truly understand what you can afford in terms of a monthly mortgage payment. If you have trouble making ends meet while paying rent, you should create a game plan to free up money in your budget by changing your lifestyle, paying down debt or looking for a home that will cost you less in mortgage payments than your current rent.
Here are some guidelines from the mortgage industry to help you understand how much money you may qualify for in a mortgage. Remember that there is a difference between what you qualify for (how much money a lender is willing to give you) and how much you can afford (based on your lifestyle). Experts agree that your monthly mortgage payment should not exceed 28% of your total gross monthly income. Here’s how to calculate your maximum monthly mortgage payment:
Maximum Monthly Mortgage Payment = (Annual Salary x .28 %)/12
Your mortgage payment is composed of PITI:
Principal of your mortgage + Interest on the mortgage + Taxes on your property + Insurance on your home and mortgage (if any)
Anna has an annual salary of $39,000/year and a down payment of $8000. Let’s determine her maximum monthly payment.
($39,000 x .28%)/12 = $910
Anna should not have a monthly payment that exceeds $910 per month. This must include PITI as well as the homeowner’s association fee (if any). Using a mortgage calculator, we can see that Anna’s monthly payment would be $811 for a $100,000 home, considering the following:
Mortgage: 30 year fixed
Mortgage rate: 6%
Anna can afford this home. She can actually afford to spend about $113,000.
Your total monthly debt payments, including mortgage, car loan, student loans and credit card debt payments should not exceed 36% of your gross monthly income. That means that if you are currently paying 20% of your monthly income toward nonmortgage debt, you should not look at a monthly housing payment that exceeds 16% of your remaining income (36%-20% = 16%).
If Anna’s auto, student loan and credit card payment comprise 20% of her monthly income, her mortgage payment should be around $520 per month. In this scenario, that’s a $58,000 home. In order to increase the amount of money available for a mortgage, Anna should consider paying down some of her debt.
By buying an affordable home, you will have more money in your pocket every month FOR 15 TO 30 YEARS! You can give yourself “a raise” EVERY MONTH for the length of your mortgage by buying a property that you can comfortably afford.